On Tuesday night in Washington, US President Barack Obama proposed abolishing tax subsidies for American companies who outsource work offshore. It may be premature to start a heated debate on the nine words he devoted to this issue in a fairly long speech to a joint session of the US Congress, but it is necessary to establish the fact that in the real world his intentions may well remain only a paper promise.It’s somewhat as feasible as commanding a rollback of the tides!
Outsourcing, shorn of all its political and cultural contexts, is a business requirement, pure and simple. It is necessary for companies to retain competitiveness and enhance shareholder value, and no amount of administrative fiats can reverse or stall a commercial entity’s drive to do so.
Punitive measures in the United States to reduce outsourcing will no doubt affect Indian technology firms in the short term. Even now, a major chunk of revenue for these companies flow in from the US, and any protectionist measure will undoubtedly have a negative impact on the fiscal health as well as market capitalisation of Indian IT companies.
However, in the long run, it will prove to be more of an opportunity for sustained growth. Indian companies will start seriously exploring and tapping other markets to broaden their client base. Companies in the larger non-American world too need to enhance competitiveness and increase returns for stakeholders, and outsourcing is an essential tool they will need to do so. And it is difficult to think of a stronger vendor than India for such services globally.
Unfortunately for American companies, President Obama’s plans may actually end up damaging their long-term prospects far more than the short-term effects on Indian technology service providers. The competitiveness of US companies is bound to suffer in a globalised economy as well as diminish the returns they in turn can pass on to their stakeholders.
US companies will have to make a hard choice at this stage. No outsourcing means companies will have to strictly regulate their overheads, and be prepared to face far greater competitive pressure. Either way, their profit margins will take a dip.
Therefore, the main negative fallout of Mr Obama’s proposal will be on the very firms that he wishes to encourage to hire more Americans and at the expense of the American stakeholders of these companies.Earlier, the Bush administration had argued that tax cuts and deregulation actually prevent American firms from needlessly exporting jobs, even though US regulations were weaker and corporate tax rates lower than those in most other countries.
The argument also was that the efficiency of US capital would increase through optimal outsourcing policies and practices by rewarding companies with tax breaks for outsourcing work. These companies become more competitive globally and are also able to improve their bottomlines and enhance shareholder returns. President Obama’s proposal to end tax subsidies for outsourcing companies fly against the face of these arguments, and are also extremely unlikely to significantly reduce the lure of labour arbitrage.
For most companies the decision to outsource is not an easy one, and it only gets tougher when you have no option but to farm out services to a third party purely for economic reasons. But apart from the cost factor, there are other compelling reasons for outsourcing. The other main factor is the availability and use of technology.
Historically, companies have found it hard to manage advanced technologies over which they had no control. They were unable to update or provide technology solutions to critical business requirements in spite of having access to the right technology. In such a situation, it made sense to move out those jobs to places where it finds the right balance with the latest technologies that suited their business model.
This is one of the main reasons why outsourcing gained so much credibility and momentum over the past years.When you base taxation policy on populist expediency and not on sound economics or even ground reality, companies might stay for some time but when the going gets really tough they will relocate to places where they get tax incentives. They go where they can make money and that is sound business, if not sensible economics.
When you take away the tax cuts, you accelerate that process much more instead of stemming it.The key deciding factor here will be the cost of quality labour in the preferred outsourcing destinations. If US companies find that even with the added tax liability factored in, the cost of outsourced labour is cheaper than US labour, they will continue to outsource. Executive fiat or not.
For Indian IT-enabled services and BPO firms, this means more severe pressure on their margins and sustained labour cost control. This also means that the Indian vendors have to start investing heavily in strengthening internal operational processes and governance systems that can closely track the delivery efficiency of their organisations.
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